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USC ECON 205 - Exam 3 Study Guide

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ECON 205 2nd EditionExam 3 Study Guide: Lectures 11-14Lecture 11Economic development—also called economic growth—is the essence of macroeconomics. There is a difference between the growth of the GDP and the growth of per capita income. The growth of the GDP refers to the growth of the whole economy and thereforeusually grows over time. However, the growth of per capita income has to do with the income of each individual in a country.The Federal Reserve System consists of twelve banks that regulate the monetary supply of the United States. It has one major office in Washington, the Board of Government, with six members plus a chairman. They are appointed for 14 years. The functions of the Fed are: federal open market committee, bank reserve requirements, discount rates—federal fund rates (short term rates versus long term rates), selective controls, and moral suasion.The liquidity trap is when the Federal Reserve’s interest rates are near or at zero (like at the present). At that point, monetary policies are ineffective since it cannot go lower. To predict the effect of money supply on the economy, the Fed uses the quantity theory of money: MV = PT(Q)- MV is the money velocity, P is the price level, and T is the price of transaction. Ergo, P = PQ/M. If you increase the amount of money in supply, the price level will go up. Monetarism is the view that money supply should increase at a low fixed rate. It states that the government should increase the amount of money by a small increment each year,. Furthermore, bank reserves are the cash in their vaults plus the deposit with the Federal Reserve Bank. Fractional reserve banking depends on bank reserves being only a fraction of what was deposited; the reserves are less than 100% of the original deposit. Growth stocks are stocks that appreciate over time, creating capital gains. They are usually in the new technological industries. Blue chip stocks, however, are reputable companies that pay out regular dividends. Defensive stocks are very stable stocks that do not change much, however money is earned through dividends (utility companies, for instance, are defensive stocks). Lastly, cyclical stocks are stocks that are very affected by ups and downs in the economy. Lecture 12Foreign countries get US gold through trading. Originally, during the time of FDR for instance, the price of gold was fixed to the US dollar. Then, foreign governments could collect enough US dollars to buy gold. However, during President Nixon’s term in office, he announced that the USwould be floating their currency versus maintaining a gold standard, the “Nixon shock”. Now thedollar is fiat, while it used to be backed to a certain reserve by gold. Growth is mainly composed of three factors: human resources (education, entrepreneurship, etc.), natural resources, and capital.Technological advancement is the advancement in knowledge, or physical creations of inventions and innovations. These advancements can take place is fields of science, engineering, management, or entrepreneurship. Managerial technologies have to deal with efficiency, like the production line, time and motion steadies, resources steadies, and other methods of efficiency. Social technologies are organizational techniques including job transition during careers and company organizations (like near-tenure in Japan or corporate democracy in Sweden). Lecture 13Every country in the world has a central bank. The central bank plays a huge role in the monetary aspect of the country’s economy; in terms of economic development and growth, the monetary aspect is probably the most important. The goals of the Fed, the US’s central bank, are economic stability, low and stable inflation, low unemployment, and rapid economic growth, a stable exchange rate for currency, coordination with fiscal policy, central bank independence, and determining short-term investments. - For economic growth, anything over 2% is very good, because our long-term average is 1.9%. - Coordination with fiscal policy means the Federal Reserve needs to work with the government fiscal policy in order to stabilize the economy. By influencing fiscal policy, wecan either have a surplus or a deficit—usually a deficit for that year.- The Fed achieves central bank independence because unlike many nations, the Fed is privately run and autonomous of the administration.Open market operations practiced by the Fed—like the buying and selling of governmentbonds—alter the economy; selling bonds helps stimulate a low economy, while overheating makes them buy government bonds. Lastly, they can change the economy is by changing the fractional reserve requirements.The Federal Fund Rate is the lowest interest rate in the United States. The second interest rate that the Fed establishes is the discount rate; it is the rate the Fed Reserve bank charges whenever a commercial bank borrows money from the Fed. Whenever a commercial bank’s fractional reserves falls below the necessary margin, they have to borrow money from other banks or the Fed. Certain big items are sponsored by selective controls, like the rate needed to be put down for items like cars and homes.Lecture 14There are three significant theories of economic development:1. Neoclassical theory is the standard market-oriented Western theory that is very prevalent in the Western world. The classical school of Adam Smith, David Ricardo, and Thomas Malthus stated that eventually economic development ceases at a plateau. The neo-classical school tookover the classical school with John Stuart Mill and David Marshall, but believed economic growth would indefinitely continue. It works in the long run.- In the 1970s, however, Neo-Malthusianism (a school of thought from Thomas Malthus) arose as an anti-growth culture in the West. They believe that resources are limited, and that we are over-consuming resources. They think we should go for low growth to protect the environment as well. However, time has shown we can always invent new resources through technology. 2. Keynesian theory was invented by Keynes and is very prevalent in the Western world as well. Unlike the laissez-faire Neoclassicists, Keynesian theory believes the government should take an active role in regulating and stimulating the economy. Whenever the economy is not performingand unemployment is high, the government should use fiscal policy to interfere. It works in the short run.3. Marxian theory was


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